OVERVIEW
Bears In Control: Breadth Continues Narrowing

Markets stumbled on Thursday as stocks dropped following a hotter-than-expected inflation report, reigniting concerns about the economy. Tech shares, which had shown strong momentum earlier in the week, reversed course, pulling major indices lower. The percentage of stocks above their 20-day moving average (MMTW) also continued to break down, now at a -40% breakdown over the last 9 sessions.

The producer price index (PPI), which tracks wholesale prices, rose by 0.4% in November, exceeding expectations. This increase signals that inflationary pressures may not be cooling as quickly as hoped, raising questions about the Federal Reserve’s next moves. Higher-than-expected PPI data can be a precursor to rising consumer prices, making it a key metric for assessing inflation trends.

In response to the PPI report, the 10-year Treasury yield jumped to its highest level in two weeks. Why? Treasury yields typically rise when inflation fears grow because investors demand higher returns to offset the erosion of purchasing power caused by inflation. Additionally, stronger-than-expected inflation data can diminish the appeal of fixed-income assets, leading to a sell-off in bonds, which pushes yields higher. This spike in yields reflects heightened uncertainty about whether inflation will remain stubborn in the coming months.

The inflation picture remains complicated. Earlier this week, November’s consumer price index (CPI) came in line with expectations, signaling that inflation continues to moderate. However, the trajectory of disinflation appears uneven—progress is slowing as inflation hovers just below 3%. This leaves investors walking a tightrope, balancing optimism about falling inflation with the reality that the Federal Reserve’s 2% target remains elusive.

Despite these challenges, the Fed is widely expected to lower rates at its policy meeting next week. Fed funds futures currently show a nearly 95% likelihood of a quarter-point rate cut. The central bank’s decision could be a sign that policymakers feel confident inflation is on a manageable path, even if progress is slower than desired. Lower rates would aim to stimulate economic activity by reducing borrowing costs for businesses and consumers.

For us swing traders, this evolving macroeconomic environment offers both risks and opportunities. Rising Treasury yields often weigh on growth stocks, especially in tech, due to the higher cost of capital. On the flip side, rate cuts from the Fed could provide relief, potentially reinvigorating momentum in rate-sensitive sectors like technology and real estate.

However, it’s important to remember that the market is a discounting mechanism—it prices in future actions ahead of time. If the market is already anticipating a rate cut at the next Fed meeting, much of that expectation has likely already been factored into stock prices. This means that while rate cuts might seem like a positive catalyst, they may not have as big of an immediate impact if the market has already priced them in.

Nasdaq

The recent action in the Nasdaq, particularly the movement in the QQQ, shows a key shift in the market. The price action formed an inside day within the densely traded range between $526 and $528, which was then broken to the upside in premarket trading. The QQQ, driven largely by the FAANG stocks, has emerged as the strongest sector in the equities market, highlighting the continued dominance of large tech companies in driving market performance.

However, there’s a significant concern here: the rally is being largely driven by a narrow group of stocks, and if you don’t have exposure to these names, you're likely not seeing much growth in your portfolio, especially as new entries are almost nonexistent. Leading stocks like TSLA, AAPL, and MSFT are driving the majority of the gains. This lack of broader market participation is a potential red flag. In general, when a market rally is fueled by just a few stocks, it doesn’t indicate widespread strength across the market, and historically, such rallies have been less sustainable. Without broader participation, the rally can easily lose momentum in a matter of hours as once these small handful of key names start to falter, the entire market gets dragged lower

S&P Midcap 400

The midcaps are now officially breaking down below their 20-EMA, with a small head and shoulders pattern forming over the last three sessions. Yesterday, there was a strong volume rejection against the declining 10-EMA, adding to the bearish setup.

The $600 level is crucial to watch—this is not only a key psychological level, but it also marks the last significant high-volume demand zone before the rising 50-EMA. A breakdown below $600 would likely trigger a more dramatic move, as it would suggest that the buying support at this level is fading, potentially accelerating the decline as the price heads toward the next support at the 50-EMA.

Russell 2000

The small caps are highlighting just how narrow the participation is in the current QQQ rally. The Russell 2000 (IWM) broke aggressively below its Point of Control (POC) level at $237 on high relative volume in yesterday's session. The POC represents the price level with the highest trading volume, often seen as a key support or resistance level. The breakdown below this level suggests a shift in market sentiment, with sellers gaining control.

In addition to the POC breakdown, the Russell 2000 is also facing steep rejection at the 10-EMA and 20-EMA, further indicating weakness. These moving averages act as short-term support or resistance levels, and the rejection at these points shows a lack of buying momentum.

Now, the IWM is resting on the last significant demand level before potentially falling to $230. If this support fails to hold, a sharp pullback to $230 becomes more likely, which could further highlight the broader market’s vulnerability, particularly in smaller stocks.

DAILY FOCUS
Naked Long Exposure Is a Risky Bet

moving averages and struggling to maintain upward momentum. This is a key indicator that the broad market is weakening. When stocks break below their key moving averages, like the 50-EMA or 200-EMA, it signals that the buyers are stepping back and the sellers are starting to take control.

With this shift, simply taking on new long positions in stocks without proper caution is risky. More stocks are failing to hold onto their gains and are showing signs of deterioration. Unless you have a clear 10/10 setup—a stock that’s trending strongly and with clear momentum—entering new positions right now might not be the best move. It’s crucial to be selective about where and when you add exposure.

For most trades, a tester position makes more sense—meaning, finding stocks that have pulled back to key support levels or those that have already shown strong resilience. Adding exposure at half or quarter your normal reduces the chances of catching a falling knife and allows you to still potentially begin building up a position in a leading name.

WATCHLIST
Today’s Best Play: Caution Still Advised

AVGO: Broadcom Inc.

• Today, we're focusing on AVGO as Broadcom posts a strong earnings report. The company expects robust demand for its custom AI chips, predicting a 65% growth in AI revenue to $3.8 billion in Q1. CEO Hock Tan projects AI could generate $60 billion to $90 billion annually by 2027. Following the announcement, shares surged 14%.

• For Q4 FY24, Broadcom reported $14.054 billion in revenue, a 51% increase from the previous year, although it slightly missed Wall Street’s estimate. The semiconductor segment saw a 220% increase in AI revenue to $12.2 billion, while infrastructure software revenue, bolstered by VMware’s integration, rose 196% to $5.8 billion.

• The stock is now experiencing a gap-up or potential pivot out of a long-term sideways base dating back to June last year—signaling a major behavior shift. We’ll be watching the 5-minute opening range high for a potential entry.

• It’s also important to note that AVGO is in the leading sector, with the only real strength in the market coming from large and mega-cap tech names.